Don't Count the SA Gold Mines Out Yet

In my article of Jan. 28 entitled "A South African gold industry turnaround?" we
examined the undervaluation and investor pessimism being directed against this
sector, noting that it bordered on outright contempt. In recent weeks many
have even called into question the very survivability of the SA gold mining
sector and a rash of bearish articles and newspaper headlines have come out
casting aspersion upon the SA gold mines. From a contararian standpoint this
is par for the course at or near a major low. It isn't surprising then
that the consensus would turn sour South Africa right at a time when the worst
has been discounted.

For instance, Merrill Lynch recently highlighted the "crisis" facing
SA's marginal gold mines as the Rand remains strong. Interestingly, Merrill's
warnings was released to the media earlier this month but had been sent to
investors weeks earlier. "Clearly, losses cannot continue indefinitely,
and if the mines are not returned to profitability, closure may be the only
option," the Merrill warning stated. Again, this type of warning is typical
at or near lows when the worst has already been discounted.

Lately I've received quite a few queries from concerned investors who
worry about the negative sentiment on the SA golds, yet are convinced deep
down that this sector still holds longer-term value. One such investor writes, "Clif,
once again another of your articles has got me thinking. Every article I read
today concerning the SA gold industry is pessimistic and dour. They are all
saying that the mines will go broke if not with the mining rights issue then
the strength of the Rand will send them under. I hope that you are right and
that things do start to turn around for the SA miners soon. I hope that you
follow up that article with others elaborating more on what you think may happen
and how it will pan out for these miners."

This is a reasonable hope, and it certainly will do us well to closely examine
the SA mines under the magnifying glass as never before. There is an old saying
that goes "first in, first out." The SA mines have been dogged and
hammered a lot longer than the other segments of the gold mining market and
I believe they will bottom before the other mines. They should definitely be
in a much better position coming out of their bear market than the rest of
the market.

You can go back and look at the last 15-20 years or so and see that quite
often DRDGold (formerly Durban Deep) and the other SA mines were a leading
indicator for the rest of the gold stock market. Whenever they flashed relative
weakness compared to the XAU the rest of the market usually followed suit at
some point on the downside. Conversely, when DROOY and other SAs showed relative
strength it wasn't too long before the XAU followed suit.

Jim Dines used to say "progress travels westward." Just as Asia
has been the economic marvel of the past 10-20 years, I believe Africa in general
and South Africa in particular will be the next major region to experience
a turnaround. I still believe the gold miners will lead SA out of the economic
dark and into better times. I'll definitely plan on elaborating more on this
theme in future articles.

Another e-mail I received states, "I totally concur with your view re:
SA golds. Talking of vested interests, this is what one [investment fund] had
to say: 'Unfortunately, even under the scenario of a slightly weaker
Rand in 2005, it is not clear that one should switch the fund's heavy
weighting in the financial and industrial sectors into resources, as the resource
index remains indifferently valued on approximately 15 times 204's earnings.'

"In actual fact the fund manager was far more forthcoming when he spoke...to
the proprietor of an SA brokerage a couple of days later. He confirmed that
he had just begun the process of increasing his exposure to resources from
3% to 11% (scaling but no time frame given). It follows that other SA institutions
will shortly begin undertaking similar adjustments. The size of this reweighting
speaks for itself; need one say more?"

I'll have more to say on the subject of the SA mining sector in a future
article. For now, a good thing to remember is that whenever the mainstream
financial press starts up with the "doom and gloom," you can't
always believe what you read!

Clif Droke is a recognized authority on moving averages and internal
momentum. He is the editor of the Momentum Strategies Report newsletter,
published since 1997. He has also authored numerous books covering the fields
of economics and financial market analysis. His latest book is Mastering
Moving Averages. For more information visit www.clifdroke.com